The Great Depression as we Know it Was Avoidable

Most of my life I’ve been wondering, far in the back of my mind, if another spell like the Great Depression or the misery index of the 1970s would hit. This probably stems in part from the media (they always seem to be talking about the dangers of a recession, whether the economy is doing well or struggling), and in part from thinking that events like the Great Depression are random or periodic necessities of the business cycle that are completely out of our control.

The recent financial crisis has motivated me to look into the causes of the Great Depression more fully. The chair of the Fed, Ben Bernanke, is actually an expert on it, and his book Essays on the Great Depression is very good. He points out that “to understand the Great Depression is the Holy Grail of macro-economics.” One accomplishment of the book is to show the very significant role that governmental monetary policy–rather than just the standard business cycle–played in causing and continuing the depression.

In fact, there is a good amount of literature out there making a good case that the actions of the federal government were responsible for making the Great Depression much deeper and longer than it would have been otherwise. This makes sense from an understanding of the basic principles of economics. Perhaps the best summary of this comes from Jim Powell’s book FDR’s Folly: How Roosevelt and His New Deal Prolonged the Great Depression, which is also proving to be an excellent read.

Here is Powell’s summary:

I believe the evidence is overwhelming that the Great Depression as we know it was avoidable. Better policies could have prevented the bank failures which accelerated the contraction of the money supply and brought on the Great Depression. The Great Depression could have been over much more quickly–the United States recovered from the severe 1920 depression in about a year. Chronic high unemployment persisted during the 1930s because of a succession of misguided New Deal policies.

A principal lesson for us today is that if economic shocks are followed by sound policies, we can avoid another Great Depression. A government will best promote a speedy business recovery by making recovery the top priority [FDR’s administration made “reform of capitalism,” not recovery, its top priority], which means letting people keep more of their money, removing obstacles to productive enterprise, and providing stable money and a political climate where investors feel that it’s safe to invest for the future.”

Here we have a large example of the effect that making bad decisions can have on people.

He also wrote a book, America’s Great Depression, which I’d also suggest you read, except that I’m only through the first chapter.

Caleb

I must say I highly disagree with Ben Bernanke’s view of the gold standard and thus his book. It’s very ironic that one of the major causes of the Great Depression was monetary policy, not the gold standard he attacked. And I don’t mean whether we should have inflated or deflated the money supply, as the debate goes. I mean whether we should TOUCH the money supply at all! That, I believe, is where the debate needs to be.

In this paper, we use the Moody’s Analytics model of the U.S. economy—adjusted to accommodate some recent financial-market policies—to simulate the macroeconomic effects of the government’s total policy response. We find that its effects on real GDP, jobs, and inflation are huge, and probably averted what could have been called Great Depression 2.0. For example, we estimate that, without the government’s response, GDP in 2010 would be about 11.5% lower, payroll employment would be less by some 8½ million jobs, and the nation would now be experiencing deflation.

alfred

I can understand why the New Deal probably prolonged the Depression instead of bringing it back to recovery. I knew all along that it was the second world war and the defense spending that accompanied it that got America back to work, not so much FDR’s policies even though I admire him.

alfred

I can understand why the New Deal probably prolonged the Depression instead of bringing it back to recovery. I knew all along that it was the second world war and the defense spending that accompanied it that got America back to work, not so much FDR’s policies even though I admire him.